The process of developing an enterprise is like an endless game of chess, with destiny as your opponent. And, just like chess, there are some unique moves that may force a player into a trap. If you fall into those traps -- there will be consequences. Such traps are the tool of choice against aggressive novices. As entrepreneurs, rookie mistakes may crop up when aggression is at its peak, which is often the case when we are scaling up our enterprises:, that’s when we are most vulnerable, most likely to fall into dangerous traps.
The US equity market is making its longest bull run since World War II, and globally there are indications of a bullish trend in venture capital funding deals as well. Importantly, there's also an increase in the median deal size for early-stage companies. All these indicate that there's more scale-up happening in the start-up world today than ever. In such exciting times, it is even more important to remain vigilant and avoid the perilous traps of scaling up a business.
1. The Beast -- Unruly Overhead Expenses
Overhead expenses are stringent and not easy to scale down once built into the system. They also require complex accounting procedures. And, scaling up is almost impossible without an increase in overhead. The fact is that the overhead expenses are a necessary evil, the beast. Taming the beast requires two things: efficient accounting and proper aspirations.
It may be conventional wisdom that cost accounting is the preferred method of accounting because it is simple -- one single report is used for both internal and external presentation. But, it can lead to a loss of oversight, especially when the time comes to reining in these overhead expenses. For businesses scaling up, using activity-based accounting instead of cost-based accounting can actually work much better and helps maintain control over skyrocketing costs.
Activity-based accounting focuses on connecting cost directly with their activities,, and thus simplifies the decision-making process. It requires two set of books -- separate for internal and external consumption -- but it’s worth the pain. To use a simple example, it can be easier to split the total monthly expenses in half with a roommate, but it doesn't quite help us control our expenses until we account for each of our individual activities such as the amount of groceries consumed or the internet usage by each.
The scale-up phase comes after a large capital infusion and defines the moment we decide to push the accelerator.Then our supporting ecosystem often demands luxuries like a bigger office, a better team and salary hikes, etc. Although it is often difficult to deny such requirements, prudence is key. For example, it may well be perceived as a strength to have a number of professional CXO's in the company, but, instead of going out and hiring top professionals at the apex your organization chart (who come at top prices), it is better to hire people a rank below and let them rise to the top with time.
2. Easy Capital -- No Such Thing
This is the most ironic of all the traps. For many entrepreneurs struggling with fundraising, it may even sound like a harsh joke, but any money that doesn't come as revenue from sales is a serious liability, however easy it may seem. Grants, donations, subsidies and such are very important tools in enabling businesses but they can have deadly consequences at the same time. Access to capital is the key to shaping our aspirations and the easier the capital, the wilder the aspirations and higher the chance of failure. You could say that easy capital is the sacrificial chess piece used by your opponent to lure you into the deadly checkmate.
I built a social enterprise that provides electricity to villages distributed across a poorer part of India and parts of East Africa. Our work has greatly benefited by leveraging a wide spectrum of capital, half of which, I today wish, were not available to us. Access to easy capital often blinds us to the dark spots in our models. It also leads to creation of unruly overhead expenses. Therefore, it pays for any enterprise to be conservative in putting a dollar figure to their immediate needs while fundraising.
III. Play (Smart) by the Rules - Strategic Compliance
Regulatory compliance requirements are like the rules of the game. Any planned move that does not conform to the regulation only leads to a change in plan. Sometimes they can be obscure like the rule of En passant in chess (a pawn that has moved two spaces can be captured by an adjacent pawn in its fifth square in the very next move). But just because you might not know this rule doesn’t mean it doesn’t exist, and ignorance of the law is not considered a valid defence against non-compliance.
Compliances go way beyond filing different forms which are in themself quite a hassle. For example, if you are a company based in US, did you know how easily you could be sued by a disgruntled candidate? You have to make very sure that there is no discrimination, not even accidental, in the hiring process. Same applies to the process of taking disciplinary action against non-performing employees. How about the Family Medical Leave Act violations? Or, not complying with the Affordable Care Act. There are a number of such regulations that may seem trivial but could become really painful really fast.
The compliance issues get trickier as the business goes global. Different countries have different requirements, and as the enterprise structures get increasingly complicated so do the requirements. I have had to face situations where we had to let go of more than a year and half of efforts once the realization struck that certain of our activities were not quite compliant!
A wise thing to do for any start-up is to have a separate compliance team in place from the beginning. Many companies prefer to combine the regulatory compliance responsibility with their risk-assessment team. This goes to show that there's always a risk of non-compliance, and every single activity must be well vetted against the regulatory framework.
All start-ups dream of a successful scale-up and the challenges associated with scaling up any business model are unique. But, being aware of the most common traps ahead of time can avoid a surprise checkmate (especially at the beginning), give you a big leg up on your competition, and set you on a much smoother path to success and your own perfect game.
*edited by Justin Ross .
*edited by Justin Ross .
